FS KKR Capital Corp (FS Investment Corporation) 10-K Summary
Business Context and Reporting Period
Company: FS Investment Corporation (Ticker: FSIC)
Reporting Period: Fiscal Year Ended December 31, 2014
Structure: Externally managed, non-diversified, closed-end management investment company regulated as a Business Development Company (BDC) and taxed as a Regulated Investment Company (RIC).
Management: Managed by FB Income Advisor, LLC (FB Advisor) with GSO/Blackstone Debt Funds Management LLC (GDFM) as sub-adviser.
Strategy: Focuses on generating current income and long-term capital appreciation through senior secured loans, second lien loans, and subordinated debt of private U.S. middle-market companies. The portfolio consists of 118 companies as of year-end.
Key Financial Metrics
| Metric | 2014 | 2013 |
|---|---|---|
| Total Assets | $4.35 billion | $4.44 billion |
| Investment Portfolio (Fair Value) | $4.18 billion | $4.14 billion |
| Net Investment Income | $242.0 million ($0.97/share) | $245.0 million ($0.96/share) |
| Net Increase in Net Assets from Operations | $194.8 million ($0.78/share) | $265.8 million ($1.04/share) |
| Total Debt Outstanding | $1.86 billion | $1.67 billion |
| Weighted Avg. Interest Rate on Borrowings | 3.53% | Not explicitly stated for year-end |
| Cash and Cash Equivalents | $96.8 million | $227.3 million |
| Net Asset Value (NAV) per Share | $9.83 | $10.18 |
| Distributions Declared per Share | $1.08 | $0.83 |
Material Changes vs. Prior Period
- Portfolio Composition: The portfolio shifted significantly toward direct originations, which increased from 51% of the portfolio in 2013 to 75% in 2014. Conversely, broadly syndicated/other investments decreased from 21% to 6%.
- Operating Results: Net investment income remained relatively flat year-over-year ($242.0M vs $245.0M), despite a decrease in total investment income ($464.8M vs $474.6M). This was offset by a reduction in operating expenses, primarily due to a management fee waiver and permanent reduction by FB Advisor.
- Unrealized Gains/Losses: The company recorded a net unrealized depreciation of $82.1 million in 2014, compared to $26.0 million in 2013. This was driven by a widening of credit spreads in the fourth quarter of 2014.
- Capital Structure: The company issued $400 million of 4.000% Notes due 2019 and $325 million of 4.250% Notes due 2020 during 2014. Proceeds were used to repay the Arch Street and Walnut Street credit facilities in full.
- Liquidity Event: Shares began trading on the NYSE on April 16, 2014. The company conducted a listing tender offer, repurchasing approximately 23.3 million shares (8.9% of outstanding shares) for $250 million.
Guidance, Outlook, and Risks
Management Commentary: Management maintains a defensive investment approach focused on long-term credit performance. The company intends to pay regular quarterly cash distributions starting January 1, 2015. The gross annual portfolio yield prior to leverage was 10.0% as of December 31, 2014.
Risks and Contingencies:
- Interest Rate Risk: 69.0% of the portfolio pays variable rates. Rising rates increase interest income but also increase borrowing costs on floating-rate debt facilities.
- Leverage: The company employs leverage up to 50% of asset value. A decline in asset values could impair the ability to meet asset coverage ratios required by the 1940 Act, potentially restricting distributions.
- Valuation Uncertainty: A significant portion of the portfolio (Level 3 assets) is valued by the Board of Directors in good faith due to the lack of active markets, introducing subjectivity to the reported NAV.
- Conflicts of Interest: FB Advisor and GDFM manage other funds and may face conflicts in allocating investment opportunities.
Investor Verification Checklist
- Distribution Sustainability: Verify the source of distributions (Net Investment Income vs. Capital Gains vs. Return of Capital) in the upcoming Form 1099-DIV, as distributions ($1.08/share) exceeded net investment income ($0.97/share) on a GAAP basis.
- Asset Coverage Ratio: Monitor compliance with the 200% asset coverage ratio required by the 1940 Act, especially given the $1.86 billion in debt obligations.
- Portfolio Quality: Review the investment rating distribution; 11% of the portfolio was rated "3" (requiring closer monitoring) or lower (1% rated "4", 0% rated "5").
- Fee Structure: Confirm the impact of the reduced base management fee (1.75%) and the 7.5% hurdle rate on future net investment income.
- Debt Maturities: Note the maturity of the JPM Facility repurchase agreement ($950 million) in April 2017 and the Broad Street facility in December 2015.